Refinancing and Second Mortgages

April 30, 1999, Revised June 29, 2007, Revised September 7, 2010

The ready availability of second mortgages both encourages and discourages refinancing, depending on whether  the borrower now has one mortgage or two, and on the relationship between the loan balances and the property value.

One Mortgage, Balance Exceeds 80% of Value

In this situation, the first mortgage cannot be refinanced without paying for mortgage insurance. If market rates are low enough, however, refinancing into a combination first and second may reduce the cost by enough to make the refinancing cost effective.

"I have an 8.5% mortgage with 26 years to run, but because my house has depreciated in value I can't refinance the balance without paying for mortgage insurance. A broker has told me that I can borrow 80% of the balance at 7% and the other 20% on a second mortgage at 9.5%. Will this pay?"

Probably it will, depending on the refinancing costs relative to the loan balance, and on how long you expect to be in your house. My Mortgage Refinance Calculator 3c indicates that if total refinance costs are 3% of the loan balances and you hold the new mortgages at least 3 years, the deal will pay. Calculator 3c shows that on these assumptions, the break-even rate on the second mortgage is almost 11%.

Two Mortgages, Total Balances Less Than 80% of Property Value

When there is already a second mortgage and the property has appreciated significantly in value, it may be cost effective to refinance into a single first mortgage.

"I purchased my house a year ago with a $100,000 first mortgage at 7% for 30 years, and a $40,000 second mortgage at 11% for 10 years. With house prices appreciating very rapidly in my neighborhood, I find that I can refinance the balance on both loans at 7%. Is there any reason why I shouldn't?"

Only the possibility that the refinance will cost more than it is worth, or that you expect to move in the near future. My Mortgage Refinance Calculator 3b indicates that if total refinance costs are 3% of the loan balance or less and you stay with the mortgage for 4 years or more, the refinance will pay.

Two Mortgages, Total Balances Exceed Property Value

When there is a second mortgage but the property has not appreciated, the borrower may be unable to refinance the first mortgage because of the second.

"I have an 8% first mortgage with a balance of $122,000 and an 11% second for $28,000. My house is worth no more than $135,000. With first mortgage rates down to 6.5%, would I be able to refinance the first while leaving the second as it is?"

Maybe, maybe not, depending entirely on the second mortgage lender. When you refinance the first mortgage, you pay off the old first mortgage, which results in the second mortgage automatically becoming a first mortgage. To avoid this, the second mortgage lender must agree in writing to subordinate his claim to a new first mortgage. Some second mortgage lenders will agree to do this, since it is no skin off their nose, but others refuse to do it and some will take the position that the only way they will cooperate is if they refinance the first mortgage. See Subordination Policy of Second Mortgage Lenders. 

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